Royal Mail set to deliver IPO at right price

October 10, 2013

By Robert Cole

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

It is virtually certain that Royal Mail shares will be sold at the top of the pre-released 260 pence to 330 pence price range. Such is the demand for stock – the UK government says the retail element is seven times oversubscribed – it is likely that the price will immediately jump. Bets laid with IG Index suggest a first-day closing market capitalisation above 4 billion pounds, or a 20 percent pop. It sounds like a bad deal for the seller – who, ultimately, is acting on behalf of British taxpayers.

Could the government have increased the price? Maybe, but it is not clear how firm the demand for shares really is. After all, most people agree that Royal Mail will be a low-growth, dividend-dependent stock.

Alternatively, perhaps the IPO’s organisers should have sold fewer shares at the relatively low price now, planning to sell more at a higher price later on. Such phased IPOs are fairly common in Europe.

The peculiarities of Royal Mail, however, obliged a sale of more than half the equity. The privatisation was justified, at least in part, on the assumption that Royal Mail would have better access to capital, and may be better managed, in the private sector. According to people close to the transaction, institutional investors, in pre-float soundings, more or less made their support conditional on the state ceding control.

It was also sensible to reward the 150,000 staff with free allocations of shares. Besides, there will still be around 30 percent of the stock left for a second tranche, so the UK government won’t lose out totally if Royal Mail shares sustain a premium.

Yet a sustained premium is far from certain. Institutional and retail investors, sensing the chance to make quick profit but conscious of the chance allocations could be scaled back, may have applied for more shares than they really wanted. There’s also a wide disparity between the price eager investors are willing to pay and more sober assessments of Royal Mail’s fundamental value. In time, 330 pence may even look high.

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